AFAIK, it works the same online as your typical magnetic strip card, however, it's associated with a PIN which likely (hopefully) isn't stored by the merchant. Similar to a card security code (CVV).

Otherwise, offline you place it into a card reader and enter a PIN. The card then authenticates the transaction only if the PIN matches. The card stays within the reader as you enter the PIN.

Further reading,

http://en.wikipedia.org/wiki/Chip_and_PIN

http://en.wikipedia.org/wiki/EMV

Chip and pin cards.

I can confirm, when I first came to the UK four years ago, only major retailers seemed willing to accept my Canadian CC, and even then, the cashier usually had to call the manager to confirm that it's ok.

Another thing I have to credit Europe with is the lack of proprietary debit card systems like Interac or Plus. It's all done via Visa/Mastercard Debit, so you're never forced to do your online shopping on credit.

Coming from Vancouver, I assumed chip & pin cards were widespread across Canada (they are here). I suppose this is not the case?